Activist investors using Say-on-Pay to put ESG pressure on companies

• Investors can use their voice in various ways, usually engaging in discussions with company managements and boards to push their agenda
• Beyond that, they participate in Say-on-Pay votes – historically, predominantly addressing excessive CEO compensation
• However, the recent trend of integrating environmental and social incentives into executive compensation schemes has elevated Say-on-Pay's role in monitoring corporate sustainability impacts
• Furthermore, investors can leverage the threat of a low Say-on-Pay vote to advocate for specific and stringent key performance indicators in executive compensation
• Ultimately, executives respond to the incentives provided by their compensation
• Therefore, activists see distinct advantages of Say-on-Sustainability-Pay over both shareholder resolutions and director voting to achieve their objectives

Two examples – Exxon and Quantas:

?In January 2024, Exxon Mobil Corporation initiated litigation against two activist investors, asking a Texas federal court to declare that Exxon may exclude the activists’ climate-related shareholder proposal from the company’s 2024 proxy statement.

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The challenged proposal is co-sponsored by Arjuna Capital, a sustainability-focused U.S. wealth management firm, and Follow This, a non-profit organized to force oil company shareholder votes on climate issues.? The proposal calls for Exxon to “go beyond current plans, further accelerating the pace of emission reductions in the medium-term for its greenhouse gas emissions across and to summarize new plans, targets, and timetables.”

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Exxon claims that the SEC proxy rule authorizes the exclusion of this proposal: the substance of the proposal “deals with a matter relating to the company’s ordinary business operations” because the activists seek to have Exxon “change its day-to-day business by altering the mix of – or even eliminating – certain of the products that it sells.”? According to Exxon, the “overarching objective is to force Exxon to change the nature of its ordinary business or go out of business entirely.”

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In November 2023, shareholders of the Australian national airline, Qantas, overwhelmingly rejected the company’s remuneration (Say-on-Pay) report. They cited management's improper outsourcing of 1700 ground handler jobs, which constituted the "largest sacking found to be illegal" in Australian history, among other missteps. While the 83% "no" vote was advisory, according to Australian corporate law, two consecutive "no" votes of 25% or more will require all the corporation’s directors to seek re-election. The company’s Chair acknowledged the message conveyed by the strong vote, especially in response to broader frustrations with past events, and pledged intensified efforts to regain shareholders' confidence.

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Are the authorities quietly letting this go?

Why has Exxon taken this to court, rather than following the usual approach of requesting SEC staff guidance on excludability?? In a not-so-subtle criticism of how the current SEC staff has been responding to such requests on climate-related proposals in recent years, Exxon asserts that the “plain language” of the proxy rule supports excluding the 2024 proposal, “but current guidance by the SEC staff about how to apply the rule can be at odds with the rule itself.”

It has been widely reported that the staff in the current administration has shifted its approach away from granting companies requested “no action” relief authorizing exclusion of such proposals. Not surprisingly, Exxon’s court allegations underscore that the SEC staff guidance about its own rules is not legally binding and thus should not drive the court’s interpretation.

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Say-on-Pay is an effective tool to push ESG

The primary proxy advisors, Institutional Shareholder Services (ISS) and Glass Lewis, place significant emphasis on the results of Say-on-Pay votes. ISS may advise voting against the Board Compensation Committee if a Say-on-Pay proposal receives less than 70% support of votes cast in the previous year, while Glass Lewis sets the threshold at less than 80%.

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Given that power, Say-on-Pay has also proven effective in incorporating sustainability incentives into executive compensation: The inclusion of environmental and social factors in CEO pay has experienced significant growth.

According to a study covering 4,400 public companies across 21 countries, the proportion of firms incorporating sustainability metrics as key performance indicators for executives surged from a mere 3% in 2010 to 38% in 2021.

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A 2021 survey by ISS revealed that more than half of investors surveyed supported the utilization of non-financial sustainability metrics as a means to motivate executives.

The investor coalition Climate Action 100+, managing a combined $68 trillion, evaluates companies based on whether their executive compensation schemes include elements related to climate change performance.

The mandatory European Sustainability Reporting Standards stipulate “disclosure of how climate-related considerations are factored into remuneration of members of administrative, management and supervisory bodies.”

Based on an article by Paul Rissman, Rights CoLab

Claire Heppenstall Philippe Waty Michael Hilb Petra Laux Werner Boeing Arnold Lang Kreske Nickelsen